Pro Perspectives 8/16/22

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August 16, 2022

Yesterday we talked about the setup for Walmart, to positively surprise on earnings.  They did.  The stock was up 5% today. 
 
As we've discussed here in my daily notes many times, never underestimate the appetite of corporate America and Wall Street to set the bar low, so they can beat expectations. 
 
What's the perfect time to dial down expectations?  When the broad market is suffering, and broad confidence is low.  
 
Walmart used that playbook in late July, just two days ahead of a Fed meeting, where the Fed was expected to raise rates another 75 points, and was expected to continue hammering home the vision of "aggressive" rate hikes. 
 
What is the perception that comes with this Fed outlook?  Higher and higher rates => more restrictive economic activity and less risk taking => lower stock market. 
 
So, on July 25th, just three weeks before their scheduled Q2 earnings release, Walmart decided to "provide a business update," and "revise the outlook."
 
They blamed inflation (food and fuel costs), an easy culprit to place blame, for what they warned would be lower margins.  And they updated their guidance to an EPS decline of 8% to 9% for Q2 (compared to the same quarter last year).
 
The stock did this …
Again, this was on July 25th, two days before the Fed meeting.  
 
CNBC ran this headline on July 26th: "The Fed could surprise markets by sounding even more aggressive as economy teeters."
 
But as we know, July 27th didn't go according to the consensus view.
 
Instead, Jay Powell signaled the near end (if not the end) of the tightening cycle.
 
The S&P 500 has rallied 9% since.  And that brings us to today's Walmart earnings announcement. 
 
Just three weeks ago, they told us EPS would decline by 8-9% (yoy). 
 
Today, they reported 23% growth in EPS.
 
There is classic "earnings management" and there is outright earnings manipulation.  This looks like the latter.
 
If we were to take a signal from this, it could be that Walmart shares in our interpretation that both the July Fed meeting and the bazooka of fiscal stimulus that has followed, gave the greenlight for a resumption of a hot economy and the rise in asset prices. 

Pro Perspectives 8/15/22

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August 15, 2022

Stocks start the week shrugging off some negative news data out of China.
 
Tomorrow, we’ll get Walmart and Home Depot earnings.  Remember, Walmart “pre-announced” late last month, cutting the profit outlook, and setting a low bar.  This sets up for, if anything, a positive surprise for markets. 
 
Now, with that in mind, let’s take a look at the technical picture on the broader market as we also head into two important Fed events coming over the next ten days.
 
Remember, we looked at this chart last week of the S&P 500.  
As we discussed, the stock market decline in the first half had everything to do with the fear of draconian global central bank action (led by the Fed), as they threatened to crush inflation with aggressive interest rate hikes.
 
And now stocks have made an 18% run in just two months, triggered by:  central bank inaction. 
 
The bark was far worse than the bite.  After a lot of talk, the Fed Funds rate sits 600 basis points under the rate of inflation.  They were bluffing.
 
As you can see in the chart, these central bank moments have clearly been catalysts for stocks on the way up. 
 
And here we are again, heading into another central bank moment with the Fed minutes coming on Wednesday — just as stocks are running into a big trendline, and the 200-day moving average.  Both the yellow line (the trendline from the all-time highs) and the 200-day moving average (the purple line) come in around 4,325 — just above today's highs.
 
That said, the minutes of the July Fed meeting shouldn't mean much for markets.  It was comments made by Jay Powell, in the post–meeting press conference, that carried all of the weight.  He let the genie out of the bottle. 
 
Remember, he called the new Fed Funds rate of 2.25%-2.5% neutral (no longer accommodative)! 
 
And he said they would no longer "guide" on policy, but rather take things meeting by meeting, depending on the data.
 
Again, this is revealing.  If they had any intention on containing inflation with interest rates, they would have done it by now.  They haven't.  Powell admitted as much (that it's near the end of the cycle) with the above statements.
 
This sets up for another big central bank moment next week. 
 
The most powerful central bankers in the world gather in Jackson Hole, Wyoming at the annual Kansas City Fed's Global Economic Symposium.
 
Jay Powell will be the show.  He will deliver a prepared speech, and a Fed insider at Reuters has suggested he will talk about the Fed's balance sheet (the quantitative tightening program).
 
Remember, the short history of central banks reversing quantitative easing (QE) hasn't been a good one.  Things tend to break in the financial system, and central banks tend to find themselves back in the business of QE.  
 
To this point, Jay Powell and company have suggested that the plan they are executing to shrink the balance sheet is "on track."  Yet their own reports (as of the last Fed meeting) show they've sold just a third of the assets they had planned to at this point in the program.
 
So, even as the Bank of Japan has continued its unlimited QE, as the provider of global liquidity to the world, the ECB has still had to resurrect a plan to backstop eurozone sovereign debt markets, and the Fed has only been able to do a fraction of its planned "liquidity extraction."
 
With this in mind, there's a decent chance that Powell could use this speech at Jackson Hole, to reset expectations on the entire QT plan.
 
That would, of course, be very bullish for asset prices.
 
 

Pro Perspectives 8/12/22

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August 12, 2022

Stocks had a big day, to complete a fourth consecutive week of higher highs, with higher closes.
 
As we discussed back in my July 28th note:  The one-two punch of monetary policy adjustment (the Fed stating it had reached "neutral" on rates) and fiscal policy adjustment (not one, not two, but three new massive government spending packages), was "a green light for a resumption of the rise in asset prices." 
 
We're seeing it. 
 
If we step back a bit and look at the bigger picture, we had about a six-month period where markets priced in a world where central banks would attack inflation. 
 
But now it's becoming increasingly clear that both global QE and low rates are "you can never leave" scenarios.  In this post financial crisis (and post-pandemic) world, the financial system is too fragile to extract global liquidity, and sovereign debt is too fragile to raise interest rates.
 
With that, the policymakers are now back to flooding the economy with money.
 
This is a resumption of the big theme of the past two years. 
 
The theme:  You have to be long asset prices, to hedge against the broad rising cost of living.
 
If we look back at the early 80s period of inflation, where inflation averaged nearly 10% per year over a four-year period, being long stocks not only gave you a hedge, but increased your buying power by 30% over the period. Going to cash destroyed your buying power by 33% over the period. 
 
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Pro Perspectives 8/11/22

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August 11, 2022

As we discussed yesterday, the monetary policy fuel for stocks doesn't seem to be going away.
 
This is becoming even more clear, as the Democrat controlled Congress has been, at breakneck speed, blowing out even more massive deficit spending.  Just in a couple of weeks, we have $280 billion for the Chips Act.  We have $400 billion for the PACT Act.  And by Friday, we will have $740 signed into law for Build Back Better (laughably framed as "inflation reduction").
 
This, as it has become increasingly clear that both global QE and low rates are a "you can never leave" scenario.  The financial system is too fragile to extract global liquidity, and sovereign debt is too fragile to raise interest rates.  They are being exposed as having no tools to fight inflation in this environment, just as Congress is blatantly pouring more fuel on the fire.  
 
The combination of the above has consequences.  And if history is our guide, the outcome will be a new currency system and a global restructuring of debt.  That's the eventuality. 
 
What likely will come first, are the consequences. 
 
Expect the continued devaluation of currencies, relative to real assets (eroding buying power, and lower quality of life).   
 
Another (related) consequence, which has been a looming threat, for a long time:  Capital flight from the world's most liquid and trusted government bond market in the world (U.S. Treasuries).
 
Who owns nearly a trillion dollars of U.S. Treasuries, and has just watched the U.S. (and allies) freeze Russian assets (including its currency reserves)?  China.
 
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Pro Perspectives 8/10/22

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August 10, 2022

The fall in gas prices in July was telegraphing a cooler inflation number coming into this morning’s report.  That’s indeed what we got. 
 
And as we discussed yesterday, given Jerome Powell’s most recent statement that the Fed had reached a neutral level on the Fed Funds rate, a softer inflation number this morning would be a green light for stocks.  It was. 
 
Let’s take a look at the S&P 500 chart.     
Stocks closed on the highs today, breaking the June highs, and now trading 16% off of the lows of just two months ago.
 
Keep in mind, this decline of the first half, and the trajectory going forward for stocks (and investable asset prices), has everything to do with monetary policy (central banks).   
 
The central banks (led by the Fed) threatened to crush inflation with high rates.  Stocks went down.  They were bluffing.  And now, the market is pricing in the near end of tightening (if not the end).
 
With that in mind, what marked the low for stocks in June? 
 
Central banks. 
 
That June low (chart above) came as the Fed, Swiss National Bank, Australia, the Bank of England and Canada all raised rates and talked tough.  Meanwhile, as we discussed in my June 16 note, the biggest central banks in the world were responding to an average inflation across these countries of 6%, with an average central bank benchmark rate of just +0.6%.  It looked like all talk, little action. 
 
The tell-tale sign came the next day.  There was speculation that the Bank of Japan might begin to exit QE and emergency policies, as inflation has been reaching levels only seen a few times in the past forty years.  They didn't.  They doubled down — on being a (continued) unlimited buyer of assets (domestic and global).
 
This was a clue (if not proof) that the global financial system can't withstand the removal of liquidity.  The Bank of Japan had to stand pat, as a provider of global liquidity (they had to keep printing). 
 
Also, very importantly, despite talking tough about rates too, the ECB, just days earlier, had an emergency meeting where they determined a new plan (same as the old) to buy government bonds of the fiscally weaker eurozone countries.  The ended QE, and then created a new plan to restart it.  
 
The confluence of these central banks events was the bottom for stocks.
 
And as you can also see in the chart above, the bullish break of the down trend in the S&P 500 (the world's proxy for broad stocks), came with another central bank moment. 
 
It came on the day of this past Fed meeting, after Jerome Powell said they had reached the neutral level for interest rates (neither accommodative, nor restrictive to economic activity).
 
This all supports the point we've made all along:  QE is like Hotel California.  "You can check out, but you can never leave."  And after governments ballooned global sovereign debt over the past fourteen years, amplified by the post-covid response, low rates also appear to be a "never leave" scenario.  
 
The markets seem to have come around to that conclusion. 
 
Bottom line: The monetary policy fuel for stocks doesn't seem to be going away.   
 
What will be the ultimate relief valve for this continued unsustainable path?  The currency (a devaluation).
 
With that, let's take a look at the dollar …    
The dollar broke down today (broke the uptrend).  But this is more about paper currencies relative to real assets.  A lower dollar, means the resumption of higher prices in real assets (particularly commodities).  
 
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Pro Perspectives 8/9/22

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August 9, 2022

With the big July inflation report coming tomorrow morning, let's take a look at what we know about a key input into the CPI calculation…  
 
Gas prices have about a 1/5th weighting in the consumer price index.
 
Remember, last month we looked at this chart of a 10-year period that shows how closely gas prices and the consumer price index track.       
So, what did gas prices do in July? 
 
The Energy Information Administration (EIA) does a weekly survey of gas stations across the country.  Those survey results show a fall in gas prices of 7% during the month.
 
Let’s take a look at how this number has correlated with the month-to-month change in the CPI this year. 
As you can see in this above table, the sharp monthly rise in gas prices has resulted in big monthly changes in CPI.  And for perspective, these monthly CPI changes of around 1% mean that prices in the economy are increasing at a double-digit annualized rate. 
 
Conversely, the April decline in gas prices, gave us what would be a very welcomed (by the Fed) inflation number.
 
Now, it was the big jump in gas prices in June (of 11%), that gave us reason to believe a hot number was coming last month (and it did). 
 
We head into this CPI number tomorrow, with decline in gas prices.  
 
That's good news, and signals what should be a cooler inflation number.
 
Add to this, if we get a fourth consecutive lower Core CPI reading (i.e. excluding food and energy … chart below), the stock market should take off.  It would build market confidence in the Fed's recent assessment that they have reached the neutral level for interest rates. 

Pro Perspectives 8/8/22

August 8, 2022

We have the big July inflation report coming on Wednesday. 

Remember, the report last month was hot, at 9.1%.  Moreover, the month-to-month change was 1.3%.  That, annualized, would put inflation in the mid-teens.

With that, the general view in the market, is that another hot number will unleash the real inflation fighter in the Fed. 

Don’t make them angry. 

As if they’ve just been waiting for that next big cue.  The first 900 basis point spike in inflation wasn’t enough to make them blink.  But if this next number is hot, watch out!

You may detect some sarcasm. 

The reality is, they’ve watched this unfold very clearly in front of them (trillions upon trillions of dollars added to the money supply), with their own complicity, and have responded with no meaningful action.

Now we have another $280 billion (in the Chips Act), of which only $52 billion is going to chip making companies.  And we have the $740 billion bill passed in the Senate yesterday (better known as “Build Back Better”).  It’s fuzzy math.  For now, we should consider it all fresh spending (despite the appropriations to revenue raising strategies in the longer run).

Again, it’s safe to assume that the Fed was privy to this trillion-dollar spending deluge when they last met, yet the Fed Chair said that their current interest rates stance (at 2.25%-2.5%) should be considered “neutral.”

Why?  As we discussed on Friday, this is inflation by design.

The intent?  To inflate away unsustainable sovereign debt (globally).

What’s coming?  The eventuality of a reset of global debt, and a new monetary system has been well telegraphed.

We’ve talked about this quite a bit here in my daily notes.  The central bankers and politicians have been telegraphing a monetary system that includes a move to a digital dollar (“central bank digital currencies,” in global coordination).

And, don’t worry, they won’t compete with the likes of Bitcoin.  They have told us that they will destroy it.   

Remember, back in April, Janet Yellen gave a clear warning for the private crypto market.  She said the history of money in the United States was littered with attempts at different forms of private money.  It didn’t work, and they regulated it away. 

The government will regulate it away, and strengthen their monopoly on money through a “central bank digital currency.” 

Not so coincidentally, what’s bubbled up over the past week in the Senate?  Legislation on regulating private crypto through the Commodity Futures Trading Commission.

With all of the above in mind, it’s looking like the right time to own some gold.

Pro Perspectives 8/5/22

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August 5, 2022

We had a hot July jobs report morning, across the board. 
 
The payroll number was about double the market expectations.  Unemployment ticked down.  Wages were hotter.  The payroll revision from June was higher.
 
The Fed has threatened, since March, that they were coming after employment, as a means to contain wage pressures — to narrow the job openings to unemployed gap, and therefore damage employee and job seeker negotiating leverage on wages. 
 
Raising the Fed Funds rate 250 basis points, still more than 600 basis points below the rate of inflation, hasn't delivered on the Fed's threat.
 
What about earnings?  This tightening cycle must have crushed earnings, right? 
 
According to FactSet, we are now 87% of the way through Q2 earnings season, and 75% of the companies have beat expectations.  Earnings grew close to 7% on the quarter, better than the 4% growth anticipated at the close of the quarter in June.
 
What about margins?  Margins must be getting crushed due to rising costs, right? 
 
Margins have come in at 12.3%.  That's higher than the five year average, and in line with Q1 (which was the fifth-highest profit margin for reported for S&P 500 stocks on record).
 
So jobs are hot.  Corporate earnings remaining solid. Both consumer and corporate balance sheets, and credit worthiness, are as good as ever.
 
You can see below, about 70% of the total balance of mortgages are held by super-prime borrowers (760+ credit scores).   
We have the hottest nominal wage growth in over forty years.  We have the hottest nominal GDP growth in four decades.  
 
It's not a demand problem.  It's not a credit problem (for consumers nor businesses).  
 
It's an inflation problem.  "Real" wage growth is negative (after the effects of inflation).  "Real" GDP growth is negative (after the effects of inflation).
 
It's an inflation problem, by design.  Thus, the Fed has bluffed on its appetite to fight inflation.  And, thus Congress's response to forty-year high inflation:  another massive fiscal spending package.
 
It's inflation by design, to inflate away unsustainable sovereign debt (globally). It's a devaluation of money, which comes with a lower quality of life. 
 
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Pro Perspectives 8/4/22

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August 4, 2022

Don't underestimate the significance of the events of last Wednesday (last week).
 
Heading into that Fed meeting, we had made the case that with another rate hike, we may have reached the end of the tightening cycle.
 
Indeed, Jay Powell delivered reasons to believe that might be the case. 
 
He said they had reached neutral on rates (not accommodative nor restrictive of economic activity).  And he said they would no longer "guide" on policy, but take things meeting by meeting, dependent on the data.
 
Then, hours later, Congress approved nearly a quarter trillion dollars of fiscal spending, and then immediately disclosed that the Build Back Better agenda would be funded too.  Congress pulled out the bazooka, in the face of forty-year high inflation.
 
Now, let's assume that the Fed was fully privy to this government spending bazooka that was being loaded to fire.  And still, they told us explicitly that a "neutral" Fed Funds rate is more than 600 basis points below the most recent inflation reading.
 
If you didn't believe me when I said the Fed was using "tough talk" (and "forward guidance") all along, with no intention of aggressively fighting inflation, the sequence of events last week should give you plenty of pause. 
 
The Fed has been bluffing.  It's all been talk, no meaningful action.  They don't have the appetite (given the debt servicing conundrum) to combat inflation.
 
With that, if we look back through history, major turning points in markets have often been the result of some form of intervention (i.e. policy action or adjustment). 
 
This one-two punch of monetary and fiscal (in the same day!) would fit the description.  
 
With Congress's foot on the pedal, and the Fed foot coming off of the brake, we should be in for persistent inflation, but also high growth.  Asset prices, UP.  Dollar, down. 
 
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Pro Perspectives 8/3/22

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August 3, 2022

Yesterday we talked about the noise surrounding Pelosi's trip to Taiwan.
 
What was the geopolitical strategy behind it?  
 
Beyond all of the speculation about the signaling involved, there was good reason to believe there was a practical purpose to the trip.  
 
Again, it came on the heels of the passage of the Chips Act (which came just this past Thursday). 
 
And who is the most important chip producer in the world?  Taiwan Semiconductor (symbol TSM).  
 
Given the timing of it, we discussed the likelihood that this trip could mostly be about negotiating the building of more productive capacity, of the world's most advanced microchips, in the U.S. (via U.S. government subsidies).
 
Indeed, it was reported by Nikkei news that Pelosi met with both the founder and Chairman of TSM.  
 
Why does the U.S. government care so much about a Taiwanese chip maker that they would send the number three person in government, under the threat of Chinese aggression, to (likely) offer them (more) direct U.S. taxpayer money?
 
Because TSM has become critical to U.S. economic and national security.  Equally, it is critical to China's economic and national security. 
 
TSM is the world's chip manufacturer.  They manufacture 90% of the world's "advanced" microchips, which power the cutting edge digital technology, critical infrastructure and weaponry used today.  Most of the chip makers we know by name, have over the years become just designers, and have outsourced manufacturing to TSM.
 
That makes everyone vulnerable.  Thus, the Chips Act.  And thus the importance of protecting the global supply coming from Taiwan, until manufacturing and the technological leadership can be diversified (i.e. onshored to the U.S.).
 
TSM is already building manufacturing in Arizona.  And Intel is making strides to catch up to the sophistication level of TSM chips, while also making big investments to build manufacturing, including foundry business (where they produce competitor chips, too).
 
With the above in mind, most of the key chip stocks are down more than 30% on the year, yet are in the pipeline to get significant government money.  Institutional money tends to follow government money.
 
We own the cheapest (by far) of these chip stocks in our Billionaire's Portfolio, yet one that may be the biggest beneficiary of government subsidies.  It's among the highest conviction positions in the portfolios of two of the best value investors of all-time (both self-made billionaires).
 
If you're a reader of these daily notes and you have not yet subscribed to our member's only portfolio service, if you do so now, I'll send over all of the details on this chip stock.  Just click here, subscribe and join us.